Lupberger: Exit When Two Thoughts Come to You
authors David Lupberger | September 8, 2020
You will be leaving your business. It will happen. This is something every business owner needs to address. Owners begin thinking about the transition or exit–planning process when two streams of thought begin to converge. See if this sounds familiar.
The first stream of thought is a feeling that you want to do something besides go to work every day. Either you would like to be someplace else—doing something else—or you simply no longer get the same kick out of doing what you are doing.
The second stream of thought is a general awareness of the following. You are nearing financial independence. You are making significant strides toward reaching financial independence. You can achieve financial independence today by selling your businesses.
While each exit plan is as unique as the owner who creates it, a carefully crafted exit plan has several signature characteristics. It aims to increase business value. It is put in writing so that all involved can measure their progress toward the owner’s goals. It incorporates accountability by holding the owner and each participant to deadlines for completing each task.
Set Objectives and Goals
Many contractors do not set exit precise objectives because it is too emotionally wrenching to contemplate separating themselves from a business they have created, nurtured, lived with, suffered with, brought to maturity, and in which they have totally immersed themselves.
Your exit plan should be based on your goals. It is difficult, if not impossible, for any financial planning professional to engage you in the exit planning process until you are emotionally prepared to begin planning to leave your business. There are three straightforward exit objectives that, once established, will allow owners to cut through a lot of muddled thinking that otherwise bars them from moving forward.
The three exit objectives. First is knowing how much longer you want to work in the business before retiring or moving on. Second is determining the annual after-tax income you want during retirement. Third is knowing to whom you want to transfer the business. Is this, family, co-owners, key employees, an outside third party, or to employees via a stock ownership plan, ESOP?
No owner can effectively begin planning (or acting in an efficient and coordinated manner) to leave his or her business without establishing each of these objectives. Many owners will also set other objectives, such as the following. They seek to maintain family harmony, provide for one or more employees, transfer wealth to family members, obtaining maximum value for the business, living a life of significance or giving to charity.
Remember, your goals and objectives determine all subsequent planning efforts and actions. You are the person primarily responsible for this step. Owners do not need to reinvent the exit planning wheel. There are professionals, like myself, who do this kind of work full time.
Quantify Available Resources
A universal ownership objective is to secure the income stream that you and your family will need to support a future lifestyle. The following three elements constitute your financial resources: business value, projected business cash-flow and non-business sources of income.
Knowing the value of a business is critical to accomplishing the planning necessary to successfully exit your business. For most owners, their businesses are their most valuable asset. Key financial goals depend on converting that asset to cash. Based on owners’ knowledge of the current value of their businesses, owners, with the help of key advisors, can determine whether an owner’s financial objectives can be met at present through a conversion of business value to cash. You must also know how much the business’ value must grow in–order to reach your retirement objectives. This is common. Lastly, you must know whether, and how quickly progress can be made to those financial goals.
Focus on Business Value
Focus on your business’ value by protecting existing value, increasing the future value of the business, minimize current tax–liability and general liability when you transfer ownership.
Increasing a business’ value is an inevitable byproduct of a consistently well-run business. There are numerous actions an owner like you should take to maximize value. You should maintain and consistently increasing cash flow. You should document the sustainability of earnings. You should motivate and retain key employees. Lastly you should create and use efficient systems. Increasing business value goes to the heart of a successful business and to the essence of your role within the business: to enhance value.
A future buyer may not even consider purchasing your company if there is a risk that its value will decrease. Have you taken steps to make sure your key employees stay with a new owner after you exit?
Develop a Contingency Plan
One of the benefits of developing an overall exit strategy is that you quickly appreciate how contingency planning is an integral part of it. Taking effective measures so that your business survives if you do not is a natural part of the exit planning process. In an ideal situation, business-continuity needs (upon the death or incapacitation of an owner) can be met by a business-continuity agreement with a co-owner.
However, most businesses are solely owned. If sole owners do nothing else, they have a duty to their families and businesses to create written plans that answer key questions.
- In my absence, who can be given the responsibility to continue and supervise daily business operations,
- Financial decisions?
- Internal administration?
- How will these people be compensated for their time and, most importantly, their commitment to continue working until the company is transferred or liquidated?
- What should happen to the business upon my death or permanent incapacitation?
When owners make the decision to begin transferring their businesses, the last thing they are likely to consider is the need for adequate planning to protect the business if they should suddenly die or become incapacitated. Yet, this is precisely the point at which the business is most vulnerable: It has peaked in value, but the event creating liquidity is likely years away.
The remedy is usually straightforward: adequate legal documentation in the form of a buy-sell agreement or a stay-bonus program that includes adequate funding for important employees.
A Plan for the Owner’s Family
With this last step, your exit planning process comes full circle. Review your financial objectives established in the first step. If you do not survive until your business exit, which financial resources will your family need and where will they come from? Which actions can you take to minimize or avoid estate taxes?
As a business owner, your estate plan is another part of your overall exit plan. Unlike some of your lifetime objectives (e.g., financial security), estate planning objectives and business-continuity objectives are relatively easy to meet upon your death or incapacitation. To acquire the liquidity sufficient to meet your financial objectives, consider the purchase of life insurance and disability insurance. You may be surprised by how easy it is to meet after death objectives using insurance.
Once owners complete the first two steps of the process (setting objectives and quantifying available resources), they can jump to this final step (preparation of appropriate estate planning documents and funding financial needs using insurance) so they can minimize the financial impact their death would have on their families and their companies’ ability to survive.
All the techniques that produce operational business success—learning from mistakes; developing business strategies based on experience; and conducting business efficiently and effectively—do not guarantee a successful business exit.
Sadly, the experience owners develop over the course of their business lives does not equip them to leave their businesses successfully. Experience and learning, along trial–and–error, all require time—a luxury most business owners do not enjoy as they approach the end of their ownership lives.
All this planning sounds complex and time consuming, but it does not have to be. There are people (like myself) who can help you create a comprehensive exit plan. Armed with a written exit plan, a team of experienced advisors, and with (ideally) several years before you exit, you can optimize your ability to leave your business in style. QR
If you would like to do a free exit planning assessment to better plan your eventual exit, let me know. You can contact me at email@example.com.